Shortly after Apple (NASDAQ:AAPL) launched Apple Pay last year, CEO Tim Cook declared that within the first 72 hours, 1 million cards were activated on the service. That was a tiny fraction of the 800 million iTunes accounts Apple claimed to have last April, but it looked like a promising start for the payments system. In mid-March, Cook claimed that 700,000 retailers supported Apple Pay -- up from 220,000 last October.
However, a new survey from InfoScout revealed troubling numbers: only 6% of surveyed U.S. iPhone 6 owners had used Apple Pay at a store, while 85% have never tried the app. What does this sluggish start mean for Apple Pay, and should investors be worried?
What Wall Street expects from Apple
Banks and payment networks pay Apple $0.15 for every $100 in processed payments. Based on that cut, Piper Jaffray estimates that Apple Pay can generate $118 million in revenue in fiscal 2015 and $310 million in 2016, but that would represent less than 1% of Apple's projected annual revenue for both years.
For Apple to generate $118 million in Apple Pay revenue in 2015, it would need to process nearly $79 billion in payments. By comparison, Forrester Research estimates that $50 billion in mobile payments were processed in the U.S. in 2014. Apple Pay only works with U.S. credit cards, although the company plans to expand the service to Europe and Asia later this year.
Since it's unclear exactly when Apple Pay will enter those markets, it could be tough for Apple to process more mobile payments globally in 2015 than the entire U.S. market did in 2014. Since iPhones only account for 43% of the U.S. market, Piper's estimate depends on a large number of new iPhone 6 owners using Apple Pay on a regular basis.
Apple Pay's narrow market
Apple previously tried to popularize digital wallets with Passbook, an iOS app which stores bank cards, coupons, boarding passes, and tickets. On the iPhone 6, Passbook is integrated with Apple Pay.
In the second quarter of 2014, a survey conducted by Flagship Research found that 24.5% of U.S. mobile device users used Passbook before. But not all respondents owned iPhones or iPads, which respectively accounted for 48% and 56% of smartphone and tablet-using respondents. Those numbers indicate that around half of iPhone and iPad owners probably used Passbook.
Passbook's decent rate of adoption indicates awareness and interest in mobile payments, yet Apple throttled Apple Pay's appeal by restricting it to NFC-enabled devices like the iPhone 6, iPad Mini 3, and iPad Air 2. Owners of last-gen iPhones like the 5, 5s, and 5c must upgrade their phone -- or buy an Apple Watch, which is equipped with an NFC chip -- to use the service.
Apple is clearly using this strategy to boost sales of new hardware, but it also narrows the Apple Pay market to owners of the latest Apple products in the U.S.
Apple Pay might be off to a slow start, but it's nothing for investors to worry about. As more customers upgrade to the latest iPhones and iPads, its potential user base will expand. The Apple Watch will also introduce Apple Pay to owners of older Apple devices.
Moreover, the total volume of mobile payments processed worldwide could surge from $50 billion to $142 billion between 2014 and 2019, according to Forrester. That rising tide could lift Apple Pay payments.
InfoScout's survey also revealed that 30% of respondents who already use Apple Pay now base their shopping choices on compatibility with Apple's service. This means that as Apple Pay usership rises, more retailers could be pressured to jump aboard the bandwagon, which would improve its public visibility. Nearly 150 financial institutions across the U.S. already support Apple Pay, while 700 more are awaiting authorization.
The bottom line
Apple Pay is an innovative payments platform, but it probably won't generate meaningful revenue in the foreseeable future.
Instead, Apple Pay should be considered an ecosystem play which will widen Apple's defensive moat against rival services like Google Wallet and Samsung Pay. It ensures that the iPhone can keep matching rival devices' features blow-by-blow as mobile laggards like Windows Phone get left in the dust.